Recent Case Proves "Sole Benefit" Rule Is by No Means Cut and Dried

A recent case in North Carolina illustrates how the rules for special needs trusts can be confusing even to courts. If you are administering a first-party special needs trust, pay attention to who is benefiting from items purchased by the trust or you could cause problems with the beneficiary’s government benefits.

A first-party special needs trusts is as trust that is designed to hold a person with disabilities’ personal assets (in contrast to a third-party special needs trust that is designed to hold assets that never belonged to the person with disabilities). First-party special needs trusts have to follow several very specific rules so that the government will not count the trust assets against the beneficiary when the beneficiary applies for means-tested programs like Supplemental Security Income (SSI) and Medicaid. A first-party special needs trust must contain a payback provision that reimburses the government for Medicaid funds provided to the trust beneficiary if there is still money in the trust when the beneficiary dies. In addition, the funds in this type of trust must be used for the “sole benefit” of the beneficiary with special needs.

This sole benefit rule is easy to write down but almost impossible to define, since nearly any transaction involving a trust will probably benefit someone else too. For instance, if a trust buys the beneficiary a car, anyone who rides in the vehicle will also benefit from it. Likewise, if a beneficiary needs an air conditioner, the beneficiary’s visitors will benefit from the cooler air. In most cases, authorities have interpreted the sole benefit rule to mean that, on paper, there can only be one beneficiary of the trust, and all of the services provided through the trust must primarily benefit that one beneficiary.

In the recent court case, Cathleen Bass Skinner was the beneficiary of a first-party special needs trust and her husband, Mark Skinner, was the court-appointed trustee. Mr. Skinner used a majority of the trust funds to purchase an accessible house that he lived in with his wife. The trust owned the house, so if Mrs. Skinner passed away, the house would be sold and the funds would be used to repay the government for Medicaid benefits as required. Mr. Skinner also used trust funds to buy appliances for the home.

Shortly after Mr. Skinner bought the house, two of Mrs. Skinner’s siblings asked a North Carolina court to remove Mr. Skinner as trustee, which the court eventually did. One of the main reasons cited by the court when it removed Mr. Skinner was his violation of the sole benefit rule. The court decided that the trust funds were not being used for Mrs. Skinner’s sole benefit since Mr. Skinner also lived in the house. (It is important to note that the Social Security Administration (SSA) didn’t take issue with this.)

In a stinging rebuke to the lower court, the North Carolina Court of Appeals reversed the court’s decision, finding that Mr. Skinner clearly didn’t violate the sole benefit rule. The court explained that “[t]he assistant clerk of court’s interpretation of the legal term ‘sole benefits’ would lead to an absurd result . . . Under the [clerk’s] interpretation . . . if a trustee uses the assets of a special needs trust to purchase items such as a handicapped accessible home, specially equipped car, or furniture, then the disabled beneficiary must either live alone or charge ‘rent’ to her husband, who presumably must have his own separate furniture, washer and dryer, etc.”

While the Skinner case shows that the sole benefit rule is flexible, it does not imply that there aren’t limits. The SSA has consistently scrutinizes payments to family members from first-party special needs trusts to make sure that they are truly for services rendered to the beneficiary. There are many cases where trustees purchase items that have no benefit for the person with special needs at all or pay for vacations for a beneficiary’s entire family even though the beneficiary doesn’t need their companionship.

If you are administering a first-party special needs trust, it’s always a good idea to get in touch with your special needs planner before using the trust funds for anything that even has the appearance of benefiting anyone other than the primary beneficiary. A quick check with your attorney could prevent a lot of heartache down the line.